Contingent Beneficiary As Shareholder-Employee

(Posted June 4, 2001)

Question 109:A deceased former owner of a company established family and marital trusts that owned a majority of the company. Both trusts list his spouse as the sole beneficiary. Hence she is considered as owning the company stock due to attribution. Does this attribution pass down to her son (whose father was the deceased owner) for purposes of determining whether he is a shareholder-employee?

Answer: In a word, yes.

The IRC 318 attribution rules are used for a host of purposes. Many practitioners know that these rules are used to determine ownership for purposes of the traditional affiliated service group rules. They also are used to determine who is a "5% owner" or a "key employee." In addition, they are used:

To determine who is a 5% owner for purposes of the minimum distribution requirements of IRC 401(a)(9).

To determine ownership for purposes of IRC 409(n) tax credit ESOPs.

To determine who is a shareholder-employee under IRC 4975 for purposes of prohibited transaction exemptions. (Note that these rules will change after 2001 due to EGTRRA.)

Under IRC 318, there always is attribution from parent to child, regardless of the age of the child. Moreover double attribution is permissible, so long as the "family attribution" rules are not used twice. So attributing stock from trust to mother to son is perfectly valid under IRC 318. Accordingly, if mother is deemed to own enough that she is a shareholder-employee, then her son is also.

Let's take this a step further. Let's suppose that we are asking about the wife's nephew, rather than her son. Family attribution will not apply in that case. But suppose the trust says "To wife for life, remainder at her death to her nephew." In that case, he is a contingent beneficiary and is deemed to own his "actuarial interest" in the trust, determined under the estate tax rules. That would be a function of wife's age and the current interest rate.

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